NY futures reversed course this week, as December dropped 398 points to close at 67.73 cents.

The saying “easy come, easy go” best sums up the action in the futures market over the last two weeks. After gaining 399 points last week, the market gave it all back after speculators failed to keep the upside momentum going.

The big jump in open interest until Monday indicates that speculators were still throwing a lot of money at the long side, but the trade seemed unimpressed and matched them every step of the way by adding to its net short position. In the six sessions between September 20 and 26 total open interest increased by an astonishing 21,586 contracts or nearly 2.2 million bales to reach 253,449 contracts. This represented the highest open interest in the cotton futures market since the middle of 2008!

As discussed last week speculators probably didn’t have much room left to expand their already large net long position and the uptrend would therefore sooner or later run out of steam unless trade short-covering were to take over. However, with crops around the globe enjoying decent conditions, the trade has no reason to oblige the specs at this point.

The latest CFTC report as of September 20 showed specs at 8.4 million bales net long, but after the surge in open interest we have to assume that the specs net long reached somewhere between 9.5 to 10.0 million bales late last week before starting to contract again as the market turned down. The trade on the other hand had a 15.7 million bales net short, which was the result of 7.1 million in outright longs and 22.8 million in outright shorts.

With the market headed back into the “fixation zone” between 65 and 67 cents, we should see a decent amount of trade buying as mills don’t want to see the market run away from them for a third time. We believe that the relatively large positions by both the specs and the trade act like buffers on both ends of the current trading range of 66-72 cents. Specs cannot indefinitely expand their long and breakout attempts therefore exhaust themselves, while the large trade short provides a sizeable amount of support in the mid-60s, as futures get bought back due to mill fixations and the sale of basis-long positions.

In order to bust out of this trading range, we would either have to see trade short covering to extend an up move or spec long liquidation to force the market through support on a down move. At the moment we don’t consider either as very likely!

The US is not the only place where open interest in cotton futures expanded rapidly, as Chinese futures saw their open interest swell to the highest level in about ten weeks. Speculative buying pushed the most active ZCE Jan futures contract to 15,200 yuan/ton or around 103 cents/lb this week. It is actually quite possible that Asian speculators were at least to some degree behind the recent buying in the US futures market.

The strong speculative performance of Chinese futures may help to explain the strong demand for auction sales this month, since it allowed traders to build basis-long positions at attractive levels. However, according to local sources Chinese mill use may not be quite as robust as the recent pace of auction sales would indicate and the current USDA estimate of 35 million bales may therefore be on the high side.

US export sales for the week of September 16-22 came in at a more modest pace of 124,800 running bales for Upland and Pima combined, although that may be tied to the fact that old crop supplies are basically exhausted, while merchants are reluctant to offer large quantities of new crop before the quality is known. Buying interest was still widespread as 17 markets were participating, while 22 destinations received shipments of 160,800 running bales. For the season we now have a total of 5.5 million statistical bales in commitments, of which 1.5 million have so far been exported.

So where do we go from here? As explained above we still feel that the market remains range-bound between 66-72 cents. On-call sales rose once again last week and now amount to nearly 7.7 million bales, which should provide a decent layer of support between current levels and 65 cents.

The high amount of speculative participation, especially from Asian traders, needs to be watched since it has the potential to lead to a washout if these specs decided to head for the exit. However, the trade net short position is nearly twice as big as the spec net long position and it would take a sizeable amount of spec selling to chew through the anticipated trade buying in the mid-60s.

From a fundamental point of view the market seems to have value in the mid-60s and with the pipeline as empty as it is, mills will be eager to get their hands on new crop supplies, which should act in support of the market until around the turn of the year.

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